I HOLD THIS TRUTH TO BE SELF-EVIDENT, THAT A DEBT CRISIS CANNOT BE RESOLVED WITH MORE DEBT

Sunday, July 11, 2010

Two Simple Rules For A Quantum Reserve Currency

Vacation Notice: Beach time for the next couple of weeks.
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Do you know how Athens got to be a major "global" power during its Golden Age of Pericles? (Actually, it hardly qualifies as an "Age" since it only lasted roughly from 450 to 430 BC, a reminder of the ephemeral nature of power.)

Was it the rise of democracy, their large and powerful navy, repeated victories against the Persian Empire, civic pride in their cultural excellence, the creation of colonies and trade all over the Mediterranean and Black Seas... ? Or, was it that they simply discovered lots of silver right next door to the city of Athens in 483 BC?

The Laurium silver mines were the property of the Athenian state and were worked exclusively by slaves. The precious metal was minted into coins which were widely circulated and used in trade all over the world. More than a mere medium of exchange, the Athenian Owl became history's first global reserve currency.

Yes, we can thank (or curse) the Greeks for that, too.

Athenian Silver Owl, 5th Century BC

I'm not sure if the Athenians were then first to debase their currency as well, but by Roman and Byzantine times debasement was a common way to deal with economic problems and to cover state revenue shortfalls through increased seingiorage. Of course, this created even bigger problems, since currency debasement was (and still is) the surest and quickest way to impoverish the population through the decline of their purchasing power.

However, one advantage of specie money (precious metal coins) was that, unlike today's fiat currency, its elevation to reserve status did not require an a priori religious belief in its soundness (see picture below).

Guess Why The Lord's Name Is Invoked Here?

Another, was that its debasement was immediately apparent to everyone. For example, when the Roman denarius got smaller and/or lighter in silver content even the lowest plebeian knew he was getting screwed - and who was to be blamed, for that matter, since his face was on the coin itself (*). That's pretty democratic, in a practical, let's-grumble-on-the-way-to-the-forum fashion.

By contrast, today's currency debasement occurs through a mechanism entirely obscure to the vast majority of people, whose nebulous understanding of monetary matters still involves cinematic images of gold ingots kept in underground vaults. This wasn't true even in Goldfinger's time, never mind today.

Anyhow, it's been a long time since precious metal coins were used in everyday transactions, and it's even been one hundred years since the gold standard started unraveling.

What replaced it was paper and then electronic fiat money; today we even have "shadow" money, a creation of the shadow banking system. Fiat money was a concept as modern as quantum physics; interestingly, both appeared around the same time, in the first part of the 20th century. Modern money shares a common foundation with quantum physics because, just like quantum states, our money leads an indeterminate probabilistic existence until we interact with it, i.e. until we try to use it for a concrete purpose.

For example, what is the "value" of a dollar? We measure it by comparison to a "known" quantity, like a bar of chocolate. Today, a dollar may buy one bar but tomorrow it may be worth only nine-tenths, or eleven-tenths. The astonishing conclusions from Schrodinger's cat point to more directions than the probabilistic nature of photons only.

Alright, now for those "simple" rules for a global reserve currency.

First, we must keep in mind that our money is, in fact, a quantum currency, i.e. its value is not fixed but relative, highly dependent on what people think it is worth. In quantum physics the equivalent - and much more general - principle is that reality is created through our observation and is therefore not independent of us.

However, people also want their money to be "stable", just like they prefer to perceive reality in terms of comfortably deterministic Newtonian physics, not as probability wave functions or multiverses. Squaring the two is not an easy task, very likely because as humans we have not yet evolved far enough to routinely function in a quantum existence.

We conclude, therefore, that a global reserve fiat currency must continuously and dynamically balance between its inherent quantum uncertainty and the human desire for determinism. To occupy, if you like, the space between quantum and Newtonian monetary mechanics.

Therefore, these are the two rules for today's reserve currencies:

First Rule: Information is key.

The only way to reduce uncertainty is to possess as much clear and unambiguous information as possible. That won't make a quantum currency behave 100% deterministically (that's impossible), but it will reduce risk.

For example, if the Fed is vague about what it is doing to its balance sheet, dollar investors will calculate a higher probability of debasement. Likewise, when the government drops regulation of important financial markets, or allows them to grow unchecked over the counter, or when finance becomes dominated by a few large, secretive players.

Alan Greenspan as Fed Chairman subscribed to the exact opposite idea as he befuddled everyone with his tortured syntax, i.e. he essentially maintained that what you don't know can't hurt you. His cavalier attitude towards the public's ability to understand monetary matters (a gross misreading of Ayn Rand) must share the blame for the creation of the Debt Bubble. By contrast, the ECB at least tries to be more open about its operations.

Second Rule: Adopt A Modern Yardstick

Since the only way to define a currency's value (i.e. to provide more information about it) is by comparison to a known quantity, we urgently need to adopt a "yardstick". In the past we used the gold standard, but for many reasons this is no longer a useful benchmark. I propose that today's money supply growth be fixed relative to the rate of growth of renewable energy, thus killing two birds with one stone: money will have a known, useful benchmark and the economy will be forced to function in ways that will quickly address resource and environmental concerns.

Does the dollar, today's global reserve currency, follow these two simple rules? Sadly, it does not.

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(*) In contrast to decrepit Roman emperors, today's fiat money issuers are a lot wiser about who is depicted on their money. They prefer such anodynes as long-dead presidents or, even more neutrally, doors and bridges in the case of the euro.

19 comments:

Elizabeth
said...

At the risk of countering the "Quixotic" nature of your idea, let's talk practicalities.

You are a very intelligent man capable of imaginative solutions to complex problems in an area of your expertise. Most people don't have your qualifications. People generally fear change, and much fear could be raised by talking a change to their money!

How can we get incrementally to a regime you describe without scaring the hell out of a very skeptical public? A public that is already suspicious about anything Federal, and could be pushed to extreme suspicion by moneyed interests in the fossil fuel industry.

Regarding "doors and bridges" depicted on euros, there are also other items. Actually the Greek 1 euro coin has an owl, copied from an ancient Athenian 4 drachma coin! You can see all euro coins at http://www.eurocoins.co.uk/

"People generally fear change, and much fear could be raised by talking a change to their money!"

If fear is what it takes to get people to take a clear, sober look at the sustainability of their lifestyles then it is a good thing. It would be more tragic to live in a happy dream and suddenly wake up to chaos than to wake up and realize that their is a problem that can potentially be remedied.

The financial crisis in America isn't over. It's ongoing, it remains unresolved, and it stands in the way of full economic recovery. The cause, at the deepest level, was a breakdown in the rule of law. And it follows that the first step toward prosperity is to restore the rule of law in the financial sector.

This was very interesting historically. Continual debasement of Roman coinage (They had no paper money.) was one of the main causes of the decline of the ancient Roman Empire. At least, that's what the most convincing book on that Decline that I've read maintains.

According to that book, debasing the coinage was one of the many ways the Emperors tried desperately to pay for the immense military establishment they had to have to protect the long borders of the Empire from ever-threatening barbarians.

So, I run to push open the saloon doors after MY beach time, and YOU'RE off ??Trains passing in the night...During my absence I got treated to "Oedipus Rex" by that middleman, who actually was still alive when Euripides was writing HIS plays, I think (God, Athenian decadence sure set in fast...).Pretty exciting stuff. A modern adaptation in the very best taste. Oedipus cast as a modern day military looking dictator, and webcam, videocam EVERYWHERE to get the point across.The play is SO MODERN if you read it carefully that it will scare the shit out of you.If you cast Western civilization in the role of Oedipus, (boy Sophocles was a SEER, I must say), well then the end looks... you get my point, I think. Call it a case of what happens when that desire to control, to predict, to see EVERYTHING gets out of hand.What is that word "seingiorage" ? Never seen it before. Is it a typo ? It is exotic.Jacques Barzun mentions that the Venetian ecu lasted some two hundred years or so as a sovereign currency, that's not too bad, I think.You already know what I say about fiat money. It is NOT the equivalent of paper money.Coins are ALSO fiat money. ALL money is fiat money at the bottom. Is some more fiat than others ? I guess it depends on your... point of view, right ??I like your observation about the quantum money and quantum physics.It seems rather LOGICAL to me that we have created a money that behaves as we currently BELIEVE that the world itself behaves, don't you think ?Why should people understand money these days ?WHO understands it ?? They don't teach it in schools unless you get a diploma (specialization), so why should Mr and Mrs Smith know anything beyond balancing the checkbook (lots of people don't know how to do that either...) ? I have asked my educated and reveling in abstraction shrink friends to tell me what they believe (!!) about money, and the VARIATION in their answers leads me to think that there isn't a lot of consensus these days about what money is, not to say what it SHOULD be.I reiterate that I think that the major problem is embracing determinism and an uncontrollable desire for security.Fostering that kind of thinking is particularly responsible for bringing us to the brink in the first place.And i favor INCREASING uncertainty and ambiguity, NOT decreasing them.Because... life may be more risky but it's also more fun, and WORTH MORE in our own eyes when everything is not predicted to a T, the way Oedipus would have liked it to be. (Thank you, Sophocles.)

Its going to be a very sad day for the indebted when they finally realize the endpoint....and the fact that the powers that be could care less about economic recovery!

The game is all about ownership/control of assets.

It is mathematically impossible for the game to continue forever and at some point deflation takes over. Money created by debt is inherently deflationary in nature due to the interest cost. The only possible exception is giving away debt free money.

Debt free money would undermine the central banks ability to influence the world as its "their" money (they create it) vs. deflation in which their money becomes more valuable - wields more power and control. Do you think they are just going to give it up?

Based on this assumption I believe they will not hyper-inflate - i.e. give away free money.

The endpoint is debt saturation - the point at which income matches debt service costs. The debt saturation point is flexible and can move up or down based on interest rates (the cost of the debt).

We started to hit that point in the mid 90's and Greenspan created the sweeps program in which average checking account balances (demand deposits) are swept into a savings account and loaned out....thus creating more leverage and more money in the system. We hit that point again in 2000/2001 and Greenspan lowered interest rates to 50 year low thus lowering the debt saturation point.

We have now hit that debt saturation point again but interest rates can't go much lower without basically offering debt free money.

The ultimate goal is the transfer of assets/wealth. When everyone is loaded to the gills with debt (debt saturation point at lowest interest rates in 50 yrs) then the carpet is pulled out from under their feet and ownership of all wealth/assets is transferred to the creator of debt based currency ...at near zero cost...or outright theft!

This isn't easy to accomplish. Its taken nearly a 100 years (or more) of careful planning and manipulation to get to this point. Even now 1/3 of all residential homes are owned outright. Thus it requires a careful coordinated attack from all angles - medical, food supply, energy, taxes, etc.

If your goal is to steal another's wealth you have to either murder them as Cain did.....or you must trick them out of it. Money created by debt works nicely!

Now with that background lets focus on precious metals....oh my precious.

1st - we know that deflation is the final tool for the transfer of wealth.

2nd - we know that those who have the wealth make the rules. No poor man ever gave a rich man a job.

3rd - we know that when they own everything....they can create whatever system of credits they so desire and it doesn't need to be gold/silver backed.....since we are begging for the food and necessities which they will/do own and control.

4th - in the event they fall into the pit they have dug....which I interrupt as to mean complete system wide collapse.....the focus will be on food and necessities.

Thus precious metals can be a hedge by the very wealthy to protect their wealth if the whole system collapses.....but only for those who can completely isolate themselves from a deflationary spiral....or else they are just delaying the transfer of assets (or even speeding it up depending on how the central banks play the game).

Most of those people will ultimately rely on the central bank version of society as a means of protecting their wealth from being ravaged by the masses - belief and support of the iron fist!

Everyone else is just speculating with borrowed dollars....

So in terms of the present - we face a deflationary gap. The gap between now and the endpoint - system of credits to utilize central bank assets (chipped) or a complete system wide collapse. In this gap the central banks will be gaining more and more power because the FRN's will be in increasingly short supply as interest costs vacuum up all the debt based money while the macro economy slides down the deflationary spiral. The value of most assets will slide with it....except perhaps the tools they have created to help force everyone (specifically those who haven't been enticed by the debt) down the spiral - medical, energy, food, etc.

The absolute best position one could be in for the above would be - debt free, ample supply of food storage, means of food production, means of energy independence, clean water supply, as healthy as possible, means of producing things other people must have (food, energy, medical, etc.), and means of protecting all of the above from others who might resort to less than admirable methods of trying to acquire it.......have I missed anything?

Oh, goody goody, thank you, Okie, for sticking in that link that will permit me to pick up on what Yophat (you prophet, you, Yophat...) is saying in his comments.Somehow, I THOUGHT I recognized that word.. "seigneur" in there somewhere...Some FREE (!!) association for y'all..."Seigneur", in French is translated as "lord", and depending on whether you stick in a capital or not, it refers to different "ideas", shall we say.One of my favorite biblical stories in the New Testament is the one where Mary Magdalen washes Jesus' feet with precious oil, and then proceeds to dry them with her hair.That story really appeals to my feminine nature.She accomplishes a truly NOBLE, GENEROUS gesture that is a total GIFT, or gratuity, OUT OF LOVE.And the disciples are all jealous, and they say "look at all that WASTE, we could have SOLD that perfume and taken the proceeds to GIVE TO THE POOR as alms...And Jesus who IS NO FOOL says, well, something along the lines that "the poor will always be with us".What Jesus DIDN'T say is that.... the poor will always be with us, IN THE SAME WAY that the rich will always be with us. The DIFFERENCE between the word "rich" and the word "poor" is an IMPORTANT one to us, as all semantic differences are important to us in creating MEANING, so...Conclusion.. we are NOT going to get rid of the rich, any more than we are going to get rid of the poor.So that means that... one of the best ways of LIMITING the influence of the rich is to make their wealth SUBSERVIENT to something and not an end unto itself.And that is what our ancestors tried to do.Ahem.. our FEUDAL ancestors, under the FEUDAL system that our incredibly stupid prejudices, handed down for generations now, distort and disqualify because we don't understand anything about the way feudalism worked as as a complicated system. (Careful, I'm not saying that this system was the garden of Eden, I don't believe in Santa Claus.)THEY, at least recognized that wealth and power need to be put to use, IN THE SERVICE of the protection of the weaker elements of society, in order to CONTROL AND LIMIT PREDATION, and to give those Wall Street types something to do with their aggressive instincts THAT ARE THERE ANYWAY (see, I can be a pragmatist too).This was done through... ideology. Through Christian DOGMA, if you like. (Yeah, well, I don't like dogma, but relying on dogma is like relying on the law to moralize people's actions. One is as... mindless as the other, you must admit, and neither is intrinsically VIRTUOUS.)Morality : tinkering with JUST the money is not going to get the job done because we need NEW IDEAS, or probably we need to look back to revive old ones.Historically, looking back is how we have always... advanced, you know.And we have been doing this for A LONG TIME NOW.You might be surprised to learn that our Puritan ancestors in England were ALREADY debating these questions...BEFORE they came to the U.S.

"The absolute best position one could be in for the above would be - debt free, ample supply of food storage, means of food production, means of energy independence, clean water supply, as healthy as possible, means of producing things other people must have (food, energy, medical, etc.), and means of protecting all of the above from others who might resort to less than admirable methods of trying to acquire it.......have I missed anything?"

Great series of comments, Yophat! I've been meaning to research the above areas mentioned, but I'm busy and easily distracted. Any chance you could suggest a reputable consultant that I could hire to do it for me? ;)

The single market created a supranational economic area. It is only logical from an economic point of view that the single market should also give rise to a single currency.We have now hit that debt saturation point again but interest rates can't go much lower without basically offering debt free money.

About Me

I was educated as a chemical engineer but spent almost my entire career in finance, particularly in money, FX and bond markets. The name stands for Hell-as-IOUs and the picture points to Quixotic endeavors.